TECHNOLOGY; Gateway's Chief Insists the PC Yield To a Digital Future

Soon, shoppers may be sinking into a sofa in a softly lighted room, where a dreamy painted mural hangs on the wall beside a 50-inch plasma television set playing images and sound from a DVD receiving its content wirelessly from a personal computer.

This is not your typical retail experience. But for Ted Waitt, chief executive of Gateway, the struggling computer maker, the vision is central to reviving the company he founded 17 years ago in a barn on his family's Iowa farm. The idea is to show the consumer how it will look and feel to live in a home equipped with a broad range of digital entertainment products designed to work together.

Late in July, Gateway brought the new selling strategy to life in a pilot store here in San Diego. It is the first of 192 Gateway retail stores to have a face lift, with the goal of transforming the underused outlets from bland showrooms into touchy-feely retail boutiques.

Paradoxically, Mr. Waitt is betting that the costly retail network that helped bring Gateway to its knees will ultimately prove its salvation. The remodeling of the remaining stores -- the company withdrew from overseas markets and has mothballed 148 stores in the United States since 2000 -- is Mr. Waitt's third new business strategy in as many years. Since retaking the post of chief executive early in 2001, he has toiled over a number of revampings to nurse Gateway back to health. Now, he is running out of options.

''I think the company has gone through an identity crisis,'' Mr. Waitt said in an interview at company headquarters in Poway, a San Diego suburb. ''We are fundamentally changing the business. Our PC is still an important part, but it's a PC and other integrated product lines, rather than a PC with a bunch of stuff sold around it.''

Gateway is not alone in the effort to recast itself as a consumer electronics merchant. With experts predicting that revenue from selling personal computers will steadily shrink in the next five years, just about everyone in the business is banking on digital convergence. Apple, Dell and Hewlett-Packard are clambering along similar paths.

But after losing market share to rivals and taking a hard hit in the technology crash, can Gateway ever distinguish itself from the pack?

Mr. Waitt hopes so. He plans to transform Gateway from a PC maker best known for building solid computers at low prices into what he calls a ''branded integrator.'' The recast Gateway would promote and support the common use of digital products at home, at work and everywhere in between.

To do this, Gateway is diving into the dangerous waters of consumer electronics, which has sunk many other companies with its ruthless competition and low profit margins. Before the end of the year, it plans to offer 50 new branded digital gadgets and other ''must have's'' in 15 categories. The new lines would connect to a single virtual conduit -- the Gateway PC.

Gateway has already introduced LCD television sets, digital MP3 players and a well-received 42-inch plasma TV set at a more-than-competitive price of $2,999. It is also poised to enter the fast-growing digital camera market.

Many have called Gateway's new retail strategy a clone of Apple's elegant retail stores, but Mr. Waitt is quick to remind listeners that Gateway started down this road in 1996, much earlier than Apple. Besides, he says, Apple aims at an elite of about 3 percent of the market.

''As this comes together for the other 97 percent of the world,'' he said, ''people are going to want to go some place where they can get a good deal. Look at what else is out there where people buy their technology. I won't say how bad the consumer experience can be.''

When Mr. Waitt reclaimed Gateway's helm in 2001, industry analysts had all but lowered the company into the grave. Technology share prices had crashed, Gateway's profits disintegrated, and its stock price plummeted from a high of $84 in November 1999, eventually reaching a low of $2.02 this past February. Complicating matters, the Securities and Exchange Commission opened an investigation into the company's books.

Gateway suffered more than most during the technology collapse, fast losing ground to Dell, its bigger rival as a direct seller of personal computers. Dell increased its grip, accounting these days for 31 percent of the United States market, according to Gartner, the market research firm.

In recent reporting periods, profit has continued to elude Gateway, which lost $73 million in the second quarter on revenue of $800 million after losing $200 million the previous quarter. Yet, cash on hand hovers around $1.2 billion, and the company says it sees reasons for hope.

''I think we will be cash flow positive by the end of this year,'' said Rod Sherwood, Gateway's chief financial officer. ''It's possible we will be profitable in the fourth quarter, but we are really shooting for next year.''

Roger Kay, an analyst with IDC, a market research firm in Framingham, Mass., was negative on Gateway 18 months ago, when he said the PC maker was in a ''death spiral.'' Mr. Kay's assessment has softened and he now gives Gateway 50-50 odds.

''This new strategy represents a potentially viable way out,'' he said. ''But a lot will depend on execution, the market itself and how quickly they become established. The good news is that they have a fair amount of cash, and that gives them running room.''

When Mr. Waitt returned in 2001, he indeed hit the ground running. On his first day back, he fired five executives and spent the next 12 months cleaning up the balance sheet and responding to the inquiries into the accounting practices of his predecessors. Mr. Waitt picked a new executive team, taking recruits from Sony, DirecTV, Dell and Ford. He hired the designers of Starbucks stores to renovate Gateway's drab retail outlets.

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Gateway declines to discuss the overall cost of the ''branded integrator'' project. But the company has a new ad campaign in the works and has devoted months to studying competitors and retail shopping patterns. It even redid some of its corporate imagery: the black-and-white Holstein cow isn't gone, but winged cows now fly through green pastures in new store murals.

William Walker, a recruit from Banana Republic who oversees Gateway's retail operation, said everything in the store -- from product placement to the layout of aisles -- differs from the typical retail outlet.

''Nothing obstructs the view through the entire store,'' he said. ''You don't want the ceiling or the lighting to take your eye away from the product. The aisles flow, as opposed to passing rack after rack after rack.''

Half of Gateway's overall sales are to businesses, and this will remain that way. But the company plans to reshuffle its consumer product mix substantially. While the old stores devoted 80 percent of their floor space to computers, the new Gateway model allots just 20 percent. Unlike the original build-to-order outlets, Gateway's new stores will stock plenty of goods ready to take home, including items from other brands like Bose, the speaker maker. Gateway is aiming for a new mix of revenue as well, with items other than personal computers contributing 25 percent of total sales this year and 40 percent by 2005.

Mr. Walker also wants the new product lines to attract different customers as Gateway goes after a group that marketing experts call ''zoomers.''

''Zoomers are baby boomers over 50,'' Mr. Walker said. ''Their children have left home, they have lots of disposable income and they are interested in technology.''

Mr. Kay, the IDC analyst, said a positive retail environment could attract buyers. But most computer and consumer electronics consumers are still drawn to large outlets where they can comparison shop.

''The problem with boutiques like Apple and Gateway is that you have to want to buy what they have or you will not even go,'' he said.

Clearly, Gateway is still experimenting with its product mix. On Aug. 12, it announced a delay in the release of a hand-held device; it is not clear when such a product will be released. Late in July, IDC reported that shipments of hand-held computers dropped 11 percent worldwide in the second quarter, making it difficult for newcomers to compete.

Some say Gateway already has a full plate of competitors and with Mr. Waitt's new business model, the list will only grow.

''We compete with Dell and H.-P.,'' Mr. Waitt said. ''Now, we are going to compete with Sony and Best Buy.

''Are we going to be like Best Buy?'' he asked. ''No.

''Are we going to be a small Dell? No. We are going to be uniquely Gateway.''

T. Scott Edwards, who jumped ship from Sony late in 2002 to become Gateway's new executive vice president for consumer marketing, said the company was being watched closely. Before leaving Sony, he attended an executive meeting devoted to Gateway's plasma TV.

''I don't think they were worried about Gateway at the time,'' Mr. Edwards said. ''But they were certainly worried about the broader implications. The more interesting part was how Gateway was able to bring the product to market at that price. That sent shivers up a lot of people's backs.''

Mr. Edwards cautioned that it could take months before consumers recognize the new focus at Gateway. But he intends to ensure that they ultimately get the message. ''I can say pretty confidently that we will spend more money than Sony will in Q3 and Q4 on advertising,'' he said.

Mr. Waitt points to his ability to offer high quality at a low price as another reason he thinks his company will rise from the ashes of the old Gateway.

''Because we have our own stores,'' he said, ''we can sell these products direct to customers for up to 25 or 30 or 40 percent lower than the competitors and still make more money than we make on a PC. That leads me to believe the model should work.''